Federated Investors hosted their latest quarterly earnings call Friday, where President & CEO Chris Donahue and Money Market CIO Deborah Cunningham discuss the recovery of Prime money fund assets in-depth. (See the Q1 earnings release here and the earnings call transcript on Seeking Alpha here.) Donahue tells us, "Looking at money markets, total money market assets increased approximately $16 billion in Q1 with funds up about $6 billion and separate accounts up about $10 billion. We saw positive money market fund flows from a variety of institutional and intermediary clients in Q1 as money market strategies continue to offer yields well in excess of average deposit rates."
He continues, "Prime money fund assets increased nearly $8 billion or 18% in Q1 from about $45 billion in Q4 to almost $53 billion here in Q1. Our money market mutual fund market share including sub-advised funds at the end of the quarter was up slightly just below 8%.... Money market mutual fund assets were $215 billion."
CFO Tom Donahue says, "Total revenue was down slightly from the prior quarter due mainly to fewer days, which reduced revenue by $7.6 million and a $2.7 million decrease in performance fees, which were $3.1 million in Q1 compared to $5.8 million in Q4. These decreases were partially offset by $10.8 million in higher revenue from higher average money market assets. Revenue was up about $43 million compared to Q1 of last year, due mainly to the consolidation of Hermes revenue of $48.3 million and higher money market revenue of $16 million."
He explains, "The increase in operating expense -- expenses from the prior quarter of $16.9 million was mainly due to higher incentive compensations and seasonally higher payroll taxes, seasonal bonus-restricted stock expense and to higher distribution expense from higher average money market assets."
During the Q&A, Federated was asked about market share. Money Market CIO Debbie Cunningham responds, "I think there was a massive amount of consolidation that occurred in the money market space after reform took place in 2016. And I think that's to some degree is part of it. We continue to offer a very full slate of money market funds that includes every type of government money market funds. So that's the largest category. It includes all types of both institutional as well as retail prime funds, which have been on a percentage growth basis the largest growers over the course of the last nine months. And a full slate of both federally tax exempt as well as state tax-exempt municipal products. So as interest rates continue to climb, but as the differentials between those various sectors sort of ebb and flow, we continue to offer a very diversified group of products, which I think is not necessarily the case with many of our competitors at this point."
Donahue adds, "What Debbie talked about is a commitment over decades that gets then reflected when you see the deposit numbers running up all during that time frame and then the yields on our funds being substantially higher than deposits today. So that, if you keep your commitment when it's raining dollars, you are a beneficiary.... Another factor is that, it is important to keep the funds competitive. Back in the old days, it was just keep the funds at one basis point or something above zero. And now we have been very good in both the investment performance and in how we manage the business to keep those yields on a very, very competitive basis."
Donahue also comments, "Prime is a little different, because prime required people to look through the new rules on the NAVs and things like that and people are increasingly becoming more sanguine about going in to these funds with four 9s or four 0s behind the decimal point. And so that is a different overriding factor. The reason people are in money funds is because they want their liquidity at par and they had to be absolutely certain that they would get that in the prime area."
Cunningham states, "Just to give you a couple of examples along those lines, our prime products have grown both with regard to the retail, distribution side and that the institutional distribution side. Our largest retail prime product at its peak pre-reform was $30 billion in assets went down to $2 billion, now stands at $22 billion. So it substantially has grown. And it has not come out of our government funds, it's come basically from our, as Chris was saying, the retail deposit basis."
She continues, "From an institutional perspective, our largest product historically hit close to $50 billion at its peak [and] went down to $800 million, yes, less than a $1 billion, post reform and today stands just under $20 billion. So the strength and diversification of the growth in that prime product has been pretty substantial. From a total distribution channel perspective, it spans the gamut. Its universities. It's broker-dealers. It's bank distributions. It's various types of large private offices. It's governmental entities. It's corporations. It spans the gamut. And that's the best kind of growth you can have because it continues to add to the diversification of the client base."
On Prime Institutional Money Market Funds, one analyst asked, "How much of the [growth is] due to more corporate customers [becoming] more accepting of the floating NAVs?" Cunningham responds, "Back in 2016, when customers chose to go en masse into government products, I'd say three quarters of them didn't have to. From an operational perspective, maybe they were a little wary about their operations being able to process and accept a four-digit NAV. Maybe they were a little bit concerned about what the gates and fees phenomenon might provide for them or put up as some sort of a hurdle for them."
She explains, "Ultimately, I think many just didn't want to be ... guinea pigs, if you will, for what was an uncertainty on a product change basis.... They understood the investment ideas, but they didn't understand the packaging changes. And that to me is the type of customers that today have reviewed over the course of last 2.5 years what has happened from an NAV movement standpoint are comfortable with their own systems at this point and [they've seen that they're not] coming even close to putting a fee or gate on any of these products.... So it's again, new cash coming into the market. They're still putting a lot into the government sector, but they're taking a portion of that and voting with their feet, if you will, into the prime product."
Finally, Cunningham adds, "The other difference, I think that is the case now versus maybe back in 2016, is that there is a yield differential. As Chris mentioned, for the longest time when we were in the zero rate environment, it was a maintenance of zero or one basis points that was kind of sustaining the market.... To the extent that we now are in a yield curve environment where there is a 20 basis point, 25 basis point differential between government and prime, that also put factors into the equation."
